Allstate’s windy stories

Today’s column discusses Allstate’s rate hike in Texas, crammed down on consumers over the objections of the state insurance commission last week. I referred to Sunday’s New York Times magazine which had a cover story on the insurance industry’s risk management.

One of the points of the story is that the insurance industry is overpricing risk even as it spins hard-luck tales in Texas about the need to further protect itself from risk. In other words, it’s charging consumers too much.

The article, though, also makes an interesting point about state-funded risk pools, such as the windstorm pool we have in Texas, onto which big insurers are foisting more and more of the of cost for hurricanes. The Times piece uses an example of a similar pool set up in Florida after Hurricane Katrina. Writer Michael Lewis says it “puts a fine point on Americans’ risk disorientation.”:

The single biggest issue in Florida’s 2006 governor’s race, for instance, was the price of insurance. The Republican, Charlie Crist, got himself elected on the strength of his promise to reduce Floridians’ home-insurance rates by creating a state-subsidized pool of $28 billion in catastrophe insurance coverage. “Florida took this notion of spreading this risk and turned it on its head,” says one former state insurance commissioner. “They said, ‘We’re going to take all this risk ourselves.’ ” The state sold its citizens catastrophe insurance at roughly one-sixth the market rates, thus encouraging them to live in riskier places than they would if they had to pay what the market charged (and in the bargain, the state subsidized the well-to-do who live near the beach at the expense of the less-well-to-do who don’t). But if all the models are correct, $28 billion might not cover even one serious storm. The disaster waiting to happen in Florida grows bigger by the day, but for a man running for governor of Florida, ignoring it is a political no-brainer. If he’s lucky — if no big storms hit in his term — he looks like the genius who saved Floridians billions in catastrophic-risk premiums. If he’s unlucky, he bankrupts Florida and all hell breaks loose, but he can shake down the federal government to cover some of the losses.

State-sponsored risk pools actually concentrate risk. If private insurers were to embrace that risk and manage it throughreinsurance and catastrophe bonds, they would spread it over the global market place, a pool worth an estimated $59 trillion.

But insurers have been successful in convincing politicians that the free market shouldn’t shoulder that risk, governments should. In doing so, they’ve left consumers vulnerable. That, of course, is nothing new. The September issue of Bloomberg Markets magazine has a stunning cover story on the secret tactics that insurers use to cheat customers out of claims, even as they bank record profits.